We Think You Should Be Aware Of Some Concerning Factors In Neurosoft Software Production's (BIT:NRST) Earnings

The market for Neurosoft Software Production S.A.'s (BIT:NRST) stock was strong after it released a healthy earnings report last week. Despite this, our analysis suggests that there are some factors weakening the foundations of those good profit numbers.

View our latest analysis for Neurosoft Software Production

Examining Cashflow Against Neurosoft Software Production's Earnings

One key financial ratio used to measure how well a company converts its profit to free cash flow (FCF) is the accrual ratio. To get the accrual ratio we first subtract FCF from profit for a period, and then divide that number by the average operating assets for the period. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

Therefore, it's actually considered a good thing when a company has a negative accrual ratio, but a bad thing if its accrual ratio is positive. While having an accrual ratio above zero is of little concern, we do think it's worth noting when a company has a relatively high accrual ratio. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

For the year to December 2023, Neurosoft Software Production had an accrual ratio of 0.94. Statistically speaking, that's a real negative for future earnings. And indeed, during the period the company didn't produce any free cash flow whatsoever. Over the last year it actually had negative free cash flow of €2.4m, in contrast to the aforementioned profit of €1.28m. We saw that FCF was €2.7m a year ago though, so Neurosoft Software Production has at least been able to generate positive FCF in the past. The good news for shareholders is that Neurosoft Software Production's accrual ratio was much better last year, so this year's poor reading might simply be a case of a short term mismatch between profit and FCF. As a result, some shareholders may be looking for stronger cash conversion in the current year.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Neurosoft Software Production.

Our Take On Neurosoft Software Production's Profit Performance

As we have made quite clear, we're a bit worried that Neurosoft Software Production didn't back up the last year's profit with free cashflow. For this reason, we think that Neurosoft Software Production's statutory profits may be a bad guide to its underlying earnings power, and might give investors an overly positive impression of the company. The good news is that its earnings per share increased slightly in the last year. At the end of the day, it's essential to consider more than just the factors above, if you want to understand the company properly. So while earnings quality is important, it's equally important to consider the risks facing Neurosoft Software Production at this point in time. Be aware that Neurosoft Software Production is showing 2 warning signs in our investment analysis and 1 of those makes us a bit uncomfortable...

This note has only looked at a single factor that sheds light on the nature of Neurosoft Software Production's profit. But there is always more to discover if you are capable of focussing your mind on minutiae. For example, many people consider a high return on equity as an indication of favorable business economics, while others like to 'follow the money' and search out stocks that insiders are buying. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks that insiders are buying.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.